practice question

CFA Level III
#1

this is from the book two of practice questions from schweser morning session of exam one… has anyone taken it? question number 6d talks about the impact of a middle-market buyout fund as a part of Private Equity’s imapact on the whole portfolio…the correlations are shown as very high for equity… so I answered that the correlations for equities and PE are usually high and that diversification benefits aren’t as great but return enhancements are usually the advantage… The answer states that there is small potential for return enhancement but good diversification potential… that is the exact opposite of what schweser was teaching… CAN ANYONE HELP? HAVE YOU DONE THIS PROBLEM???

#2

Relative to normal VC and private equity buyout funds probably have less return… but I don’t know whether this allows us to say that return enhancement is not an advantage of buyout funds. Didn’t help - I know. I just think this is probably an answer that is too close to draw a proper distinction

#3

So would consensus agree that in general, PE offers little diversification but it does offer return enhancement. Within the PE asset class, buyout funds offer less return than venture capital, but also less risk.

#4

gustobub2 Wrote: ------------------------------------------------------- > So would consensus agree that in general, PE > offers little diversification but it does offer > return enhancement. Within the PE asset class, > buyout funds offer less return than venture > capital, but also less risk. Yes to both points.

#5

This is not ALWAYS true, they are correlated with equity returns but both VCs and buyout funds have large idiosyncratic risk (VCs moreso than buyout obviously) which can reduce correlations with traditional investments - much in the same way distressed securities do. I would classify them as “moderate” diversifiers due to high correlations with stocks + low correlations with bonds + large idiosyncratic risk. Also, the benchmark for PE calculates stale prices, which undertates volatility which could mean upward biased correlations. That being said, the primary driver is long-term return enhancement

#6

thanks jscott. that was a good explanation

#7

Buyout funds on average have higher returns than vc. Vc just has better chance of a huge gain like google, but many more failures.